Franchise Law Update : Fox Rothschild Law Firm: Franchise Lawyer & Attorney: Franchise Law, Legal Decisions, Regulatory Compliance

I really enjoy Entrepreneur Magazine and can't wait for my subscription to arrive each month.  The January issue is always one of my favorites because of its focus on the franchise industry. Once again this year, the issue did not disappoint. One of the best pieces was "Deciphering the FDD: We Help You Read between the Lines".

What I like about Entrepreneur is that it generally shoots straight and doesn't take sides. It recognizes that each franchise opportunity is different, with different advantages and disadvantages, and that makes it a worthwhile read.

As a franchise litigator, I particularly appreciate its take on Item 3 of the FDD (Litigation). It notes, for example, that franchisor lawsuit against entities infringing on trademarks or against franchisees failing to comply with quality and system standards are good things because they protect that most valuable quality of a franchise: the brand.

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Contributed by Liz Sigety

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Contributed by Tom Kent

Recently, in a case involving the Subway franchise system, the Supreme Court of Kentucky reversed a Court of Appeals decision and held that Doctors’ Associates, Inc. (franchisor of the Subway system) could not be held liable for workers’ compensation claims arising from an uninsured franchisee. Doctors’ Associates, Inc. v. Uninsured Employers’ Fund, et al., Case No. 2010-SC-000568-WC, Nov. 23, 2011 (Ky. 2011). The language of the Opinion provides a striking contrast to the Opinion issued by the Massachusetts Supreme Court in the Awuah case chronicled earlier this year by the Fox franchise blog. See Awuah v. Coverall North America, Inc., 707 F.Supp.2d 80 (Mass. Dist. Ct.).

In the Doctors’ case, an employee of a Subway franchisee sought workers’ compensation benefits for a work related injury sustained while working in a Kentucky Subway restaurant. The franchisee did not have workers’ compensation coverage at the time of the injury. The claimant sought to recover benefits from Doctors’ as a potential “up the ladder employer” under Kentucky law. The critical issue was whether Doctors’ was a contractor and its uninsured franchisee its subcontractor under Kentucky law. 

The Workers’ Compensation Board determined that the vast majority of Doctors’ business was “to act as a franchisor who licensed others to operate Subway stores.” The Board distinguished the relationship of Doctors’ and its franchisee from that of a contractor and subcontractor noting that the Franchise Agreement required the franchisee to pay Doctors’ a fee rather than the reverse. The Court of Appeals reversed the Board’s decision holding that the Board misapplied Kentucky law in concluding that Kentucky workers’ compensation law was not intended to encompass the relationship between a franchisor and a franchise because the statute failed to mention the relationship.

In a significant vicotry for franchisors, the Supreme Court of Kentucky reversed the Court of Appeals stating that while the Board did misinterpret Kentucky law, it properly analyzed the facts of the case under the statute. The Supreme Court agreed with the Board’s analysis that Doctors’ was in the business of franchising, not the business of selling sandwiches. The Court concluded that the franchisee did not perform a regular or recurrent part of Doctors’ business and that Doctors’ did not control the day-to-day activities of its franchisees. Further, the Court agreed with the Board that “[Doctors’] clearly is in the business of developing franchisees for the purpose of securing royalties rather than actually operating sandwich shops.”

In light of the Awuah decision earlier this year, the Opinion issued by the Supreme Court of Kentucky is welcome news to franchisors operating in Kentucky and throughout the United States.

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As hopefully all of us are easing into a holiday weekend, I thought I'd avoid anything heavy and instead hope that maybe you'd appreciate seeing two recent postings from Kiplinger.com regarding franchising.

They are called "8 Low-Cost Franchises for Hard Times" and "10 Franchises You Can Run From Your Own Home". Both discuss franchising opportunities for those with lots of entrepreneurial spirit but limited available funds for start-up costs, and focus on opportunities that have continued to grow through the down economy.

As always, Fox Rothschild does not endorse any of the franchise opportunities presented in these articles and encourages any interested persons to engage in full due diligence and carefully vet the opportunity to make sure it is right for them.

Happy Holidays!

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The recent and much publicized arrest of waiters from high-end steakhouses for stealing or “skimming” credit card numbers from restaurant customers should have franchisors evaluating new risk management measures. 

Employees at such well known eateries as Smith & Wollensky, the Capital Grille, Wolfgang Steak, and Morton's are accused of using handheld scanners to copy credit card information of customers with high-limit cards. The information was then allegedly passed to leaders of a 28 person identity theft ring. 

One preventative measure that sit-down restaurant franchise systems should consider implementing is the “table side charge method.” In lieu of letting employees disappear with a customer’s credit card, waiters bring an electronic device to each table whenever a customer is ready to pay for the check. The credit card never leaves the view of the customer.  

An option in more casual sit-down dining franchise systems is to provide a pay at table touchscreen system for use by customers.  Certain franchisees of Chili's have adopted the table-side pay devices and other franchise systems such as California Pizza Kitchen have rolled out table side pay screens in certain markets.  Legal Sea Foods Restaurants was one of the first franchise systems to implement pay at table technology. 

While certainly an undertaking for any franchise system, instituting a table side charge method would vastly reduce the likelihood of data theft and fraud.   

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Today the Federal Trade Commission  released the final amended Business Opportunity Rule [PDF] which will take effect on March 1, 2012.   The FTC Business Opportunity Rule regulates the offer and sale of business opportunity ventures which, unlike franchises, do not often involve the license of a trademark (for example, vending machines, Internet kiosks, 900 number ventures, and rack displays).  Similar in purpose to the Amended FTC Franchise Rule, the Final Rule outlines the disclosure and proper sales methods required when offering business venture concepts. 

There are two significant things to note about the new rule.  First, the Final Rule was broadened to include sellers not already covered by the interim Business Opportunity Rule such as work-at-home business ventures.  Second, the Final Rule simplifies the disclosures required of a business opportunity seller to make them less burdensome.  Under the Final Rule, sellers will disclose only information the FTC has deemed to be the most important 5 "key items."  These items are:

1. Seller's identifying information;
2. Earnings Claims;
3. Legal/Litigation History;
4. Cancellation/Refund Policy; and
5. A List Containing Purchasers for the past 3 years.

The Final Rule prohibits misrepresentations and certain deceptive practices such as failing to make promised refunds or assigning purported exclusive territories to multiple purchasers.  The FTC can pursue those who violate the Final Rule. Accordingly, business opportunity sellers should contact their franchising, licensing, and distribution counsel now to discuss the new requirements and to begin the preparation of sufficient disclosures under the Final Rule so that they will be compliant come March 1st.

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Today, we feature a guest blog post from our colleague Brian Caufield. Brian is a former Field Attorney with the National Labor Relations Board, and frequently practices before the Board on behalf of Fox's clients.

On August 25, the National Labor Relations Board (NLRB or Board) announced that all private sector employers subject to the National Labor Relations Act (Act)—even those employers without unionized workforces—must post a notice informing employees of their rights under the Act.

Specifically, the notice informs employees that they have the right to act together to improve wages and working conditions; to form, join and assist a union; to bargain collectively with their employer; and to refrain from any of these activities.  It also provides examples of unlawful employer and union conduct and instructs employees how to contact the NLRB with questions or complaints.

The Board will provide free copies of the notice and it must be posted where other workplace notices are typically posted.  In addition, an employer that usually posts notices regarding employee policies on a company internet or intranet site must post the notice on those sites as well.  Moreover, where 20 percent or more of the workforce is not proficient in English, the employer must provide a copy of the notice in the language the employees speak.

Failure to comply with the posting rule is considered an unfair labor practice and will result in an order from the NLRB to cease and desist from failing to post the notice and an order to post the notice.  Furthermore, the Board may extend the Act’s six-month statute of limitations for filing an unfair labor practice charge involving independent unfair labor practices against the employer due to its failure to post the notice.  In addition, the Board may consider a knowing and willful refusal to comply with the posting requirement as evidence of unlawful motive in a case in which motive is an issue.

The notice rule may seem innocuous, but it has far-reaching consequences that are not explained in the notice.  For example, the notice does not explain the costs associated with unionization, such as dues and the possibility of loss of income through strikes.  Furthermore, once a union is selected by the employees the union enjoys a presumption that the employees support it for at least a year, and if the employer and union agree to a labor contract the union’s support by the employees cannot be challenged until that contract expires or three years, which ever is sooner.  Thus, ending the union relationship can be extremely difficult and employees must be fully informed before any decision is made about unionization.

The notice is currently being challenged in federal courts on the basis that the NLRB exceeded its authority in creating the notice and requiring its posting.  The lawsuit has some “legs”, in my view, in that the NLRB has declared that a failure to post will be an unfair labor practice.  While the NLRB has not created a new section of the Act, it is declaring what it views will be an unfair labor practice without any defense.  It strips employers of basic due process rights and I feel the Courts will frown upon that.  Additionally, the NLRB has equated a knowing and willful refusal to post as evidence of unlawful motive.  This “evidence” has the potential to lead to a finding of unlawful motive, which can significantly affect an employer’s defense to an unfair labor practice charge.

Franchisors and franchises have a right to be concerned over the implementation of this notice.  The consequences can be alarming, and we expect that the IFA will continue to stay on top of the issue.  Of course, we here at Fox Rothschild are on top of the issue and urge our clients and non-clients to contact us to ensure compliance with this new rule so that any negative consequences can be avoided.
 

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"Nothing in life is certain except for death and taxes". As this month draws to a close, we can certainly say that October 2011 reminded us just how accurate Ben Franklin was when he uttered this famous phrase.

The all-too-soon death of Steve Jobs, while not completely unexpected, was a jolt to the system, especially as it came almost simultaneously with the introduction of the iPhone 4S. To my mind's eye, Jobs was a modern day Henry Ford. Ford didn't invent the automobile. But he did study it and figure out a way to build and market a reliable, affordable car that put personal mobility within reach of almost everyone. Similarly, Jobs didn't invent the PC, the mouse or the touchscreen. But his marketing genious and devotion to ease of use and beautiful design resulted in personal computers, smart phones, and tablets that made personal computing and the internet accessible at reasonable cost to those from 5 to at least 75 (both my daughter and my parents find the iPad equally easy and productive to use). Both Jobs and Ford managed to overhaul the way we live and work. Ford is credited with putting cars in many garages; the devices Jobs pioneered put the likes of websites, Facebook, LinkedIn and FourSquare in our pockets. What better legacy could there be?

Then there's the tax front. Earlier this month, the United States Supreme Court refused to review Iowa's assessment of income taxes on royalty payments made by Iowa franchisees to an out-of-state franchisor. You might recall that we discussed this issue at length in a post earlier this year. The Supreme Court's decision means that, at least for franchisees and franchisors doing business in Iowa, the use a franchisor's intangible intellectual property by its franchisees within the physical confines of the state of Iowa presents "a sufficient connection to Iowa to justify the imposition of income taxes.

We have been watching, and will continue to watch, in order to see if this decision leads to policy changes in other states. Of course, the Iowa Department of Revenue initiated the case at issue before the Supreme Court without any new legislation, so we all may learn of new state enforcement efforts only after they begin. And, in these tight budget times, states will likely be looking for new revenue streams and, at the same time, not want to highlight their efforts in this regard. We will report on any new developments.

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Many time a franchise attorney may find itself representing a client who comes to you with a business idea. The idea, by definition, is a franchise. However, the client's "franchise" may involve only one sale or meet the definition of a "fractional franchise" or include a business arrangement with a potential "franchisee"  who most likely does not require the protection of state franchise laws. However, when you examine the applicable state franchise law(s), you discover that a specific exemption from registration and/or disclosure does not exist.   When that client appears, it is important to not forget the "Exemption by Order" option offered by 10 states (California, Hawaii, Illinois, Indiana, Maryland,  Minnesota, New York, North Dakota, Rhode Island and Wisconsin).

The "Exemption by Order" option allows a franchisor to gain an exemption from registration or disclosure or both where the registration or disclosure is not necessary or in the public interest for the protection of investors.  It may be granted in situations where your client meets an FTC exemption (such as a fractional franchise exemption) not offered by the state.

I recently worked with a client wanting to sell one fractional franchise. The state did not offer an exemption which the client could utilize.  A short telephone call to the state and a review of the requirements needed to apply for an Exemption by Order indicated that it was more likely than not that such an exemption would be granted.  It took only a few hours of time to summarize the client's business arrangement, explain why it otherwise would meet a FTC exemption, and complete the necessary filings. In less than a few weeks, we recieved an order granting exemption from registration and formal disclosure with the use of an FDD.

While this is not a guarantee for any client, it is an option that should be considered in those certain instances where it may apply. It certainly saves the client much time and money it would otherwise need to invest in preparing an FDD or registering with a state.

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I feel like a manager in an old Kmart, announcing a Blue Light Special. Only this light is flashing bright RED.

Well, here goes. Attention Readers: this is your final warning. Owners of registered trademarks that are not active in the adult entertainment industry may “opt out” of having those trademarks sold as part of a .XXX domain. A successful “opt out” application will block substantive content from appearing on that .XXX domain for at least the next 10 years. Instead, it will redirect the user to a standard informational page.

As is more fully explored here, trademark owners who do not want their trademarks to be used with the .XXX domain have until October 28, 2011 (that’s this Friday) to act.

If you or your system owns registered trademarks, you know how important those marks are to the success of your brand strategy. Don’t let them get diluted or ruined by an association with a .XXX domain. Act Now.

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Some franchise systems hold or are developing patents which they license for use by their franchisees. For those systems developing patents, important legislation has just passed in Congress replacing the "first-to-invent" system with a "first-inventor-to-file" system. This will conform the filing system in the United States to that used in many other countries around the world, and force inventors to decide more quickly about whether or not to file for patent protection. The legislation also has other significant modifications to the present patent laws. Please click here to learn more.

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Contributed by Tom Kent

Last week hundreds of franchisors, franchisees and franchise industry advisors and suppliers met in Washington DC for the 12th Annual International Franchise Association Public Affairs Conference.  I was fortunate to once again join several clients, friends and colleagues to support legislative initiatives that will benefit franchised businesses throughout the United States.  The conference stressed the critical role of franchised businesses in today’s economy as a means for economic growth and job creation.  

Conference attendees listened to experienced industry professionals regarding the latest business and economic trends likely to impact the bottom line of franchised business during two days of presentations and addresses.  The highlight of the conference was the visit to Capital Hill where the IFA scheduled meetings with members of Congress and Senate of each attendee’s district and/or state.  I had the opportunity to meet with Congressman Jim Gerlach of Pennsylvania as well as staff members for Senators Casey and Toomey.  During my meetings I stressed the issues critical for franchised business today.  Specifically, we discussed the need for adequate access to capital for franchised businesses, the repeal of the employer mandate included in the Patient Protection and Affordable Care Act and I requested that my lawmakers support of the Help Veterans Own Franchises Act which will establish a tax credit for veterans who purchase a franchise.  

Over the past several years I have found the conference to be very rewarding and productive.  The information and programming provided during the conference by the IFA is excellent.  I believe this conference attracts franchise industry practitioners and members who are truly engaged in the issues most important to franchised business today and encourage all who have a vested interest in franchising to attend in September of 2012.

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Contributed by Elizabeth Sigety

Strange things can happen in the world of franchising when you cross state lines.  For example, let's consider the state boundary called the Delaware River - pretending to be General George Washington crossing the Delaware between Pennsylvania and New Jersey.  We all recall--right?--that Washington paddled East to surprise the Hessian forces camped at Trenton.  So, here is the quiz - as a franchisor or franchisee, would you rather paddle East or West?

I expect that an experienced franchise attorney will easily answer this question. New Jersey is the home of some of the most restrictive regulations for franchisors (or, depending upon your viewpoint, protective regulations for franchisees) in the United States.  New Jersey protects franchisees from unlawful termination, even overriding a franchisor's refusal to renew a franchise agreement without cause. So, all things being equal--and, of course, they are not--a franchisee would prefer to paddle toward New Jersey if  state franchise law was the only reason to choose.

But what about Pennsylvania? In contrast with New Jersey, Pennsylvania has promulgated no regulations specifically addressing the relationship between a franchisor and franchisee.  In other words, under Pennsylvania law and regulation, a franchised company has the same rights as one that is not franchised.  In addition, case law in Pennsylvania does not impose any additional fiduciary duties or burdens of good faith or fair dealing on a franchisor above those of a non-franchised company.  (Though, it should be noted, as with other companies doing business in Pennsylvania, a franchisor must comply with the implied covenant of "good faith and fair dealing" which applies generally to contractual dealings in Pennsylvania.)

The reason I point this out is that franchisee and prospective franchisee business owners often come to us under the mistaken impression that, as a franchisee, they have additional rights and remedies under any state's laws and regulations.  To be sure, this is generally not the case and the written word of the franchise agreement simply will not be rewritten by any franchise-specific case law or regulation.

Of course, a franchisee can always file a complaint with the Federal Trade Commission, but the odds of the FTC turning an individual complaint into an investigation are quite low.  Thus leaving little additional remedy beyond general corporate law to the franchisee resident in Pennsylvania (or most other states without a written franchise specific rule or regulation) on which to hang its hat.

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